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What an Investor Often Doesn't Know That Would Help Him


In 2009, $9.5 billion was transferred from investor's accounts to their brokerage houses for 12b-1 fees, and most of the time the client-investor didn't know it was happening.

An opaque transfer of wealth is taking place in this country from investors to their brokerage houses in the form of 12b-1 fees. Most of the time, the client-investor doesn’t know it is happening. This is akin to someone taking money from someone else’s pocket and failing to tell him in a straight forward way that it happened.

In 2009, $9.5 billion was transferred from investor's accounts to their brokerage houses for 12b-1 fees.

The original purpose of the 12b-1 fee was to reimburse securities professionals for advertising and services provided to the fund's investors. The key to this statement is which investors? As it turns out the fee has been used for advertising to obtain new investors, not necessarily advantageous to the existing investors who pay for it. The fee was approved in 1980 under an amendment to the Investment Company Act of 1940 as Rule 12b-1.

As long as the 12b-1fee does not surpass 0.25% of the fund’s average annual net assets, it can claim itself as “no load.” This is one reason many investors miss the fee when they sign up for a mutual fund. Most investors notice “load,” but the 12b-1 is less transparent. Mary Schapiro, the Security and Exchange Commission’s chairperson, challenged this practice in 2010. Since then, however, no action has been taken, and it looks like 2012 is the earliest that the issue will be addressed again.

In the meantime, investors need to protect themselves from paying for something that doesn’t help them. This means it is necessary to be aware of the fee. Either reading a prospectus carefully or asking whether a fund has such fees is helpful. Normally, there is no reason to buy a fund with a 12b-1 fee because other funds without the fee often have similar objectives and returns. This return minus the fee means more money in an investors’ pocket.

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Victor J. Dzau, MD, gives expert advice
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